SEC charges New Jersey with violating securities law

By Zachary A. Goldfarb
Washington Post Staff Writer
Thursday, August 19, 2010

The Securities and Exchange Commission took aim at troubled public pension systems Wednesday, charging New Jersey with civil fraud for lying about whether it had covered its pension obligations to teachers and other state employees.

The case is part of an escalating campaign by the agency to deter financial misconduct by state and local governments as they are under intense fiscal pressure.

A specialized SEC enforcement unit has been investigating a range of potential wrongdoing, including whether municipalities are making misleading disclosures when raising money in the bond markets and whether pension fund officials are making investments based on bribes or political favors.

"We have a concern that there could be other states and municipalities or local governments out there that are not adequately disclosing the extent of their pension fund liabilities," Elaine C. Greenberg, chief of the municipal securities and public pensions unit, said in an interview. "By bringing this case, we hope that other states and municipalities will take notice of this enforcement action."

The case marks the first time that the SEC has charged a state with violating securities law. New Jersey settled the SEC's charges Wednesday by agreeing not to continue the misconduct while neither admitting nor denying wrongdoing in the matter. No individuals were named in the agency's complaint.

How states account for their pensions has long been debated. Many economists say that states use accounting methods that seriously understate how much they'll have to pay out to pension recipients and what they already have covered.

The SEC's action "makes the point that the states have got to be more serious about how they account for their public pension liabilities and they have to be straightforward about how they represent those liabilities," said Andrew Biggs, who follows pension issues at the American Enterprise Institute.

In the New Jersey case, the SEC said in its complaint that the wrongdoing began in 2001, when the state legislature boosted public pension benefits, and continued through part of 2007.

In those years, when New Jersey sought to raise money in the bond market, it published financial disclosures that led investors to think that the state's public pension funds were adequately funded, when they weren't, according to the SEC.

The threat of escalating unfunded pension liabilities could make bond investors demand higher returns. That's in large part because bond investors would be made whole only after pension recipients receive their benefits in the event a state cannot meet all its debt obligations.

In all, New Jersey made 79 bond offerings worth more than $26 billion during that time, the agency said. The state changed its practices after the New York Times reported it was making inaccurate disclosures about its pension system funding.

"New Jersey has never failed to pay a bondholder," said Andrew Pratt, a spokesman for the state Department of Treasury. "New Jersey aims to have the best possible disclosure in the nation and will continue to strive to achieve that goal."

The state's $67 billion pension system was underfunded by $46 billion as of June 30 last year, according to the state. The Pew Center for the States says that state pension funds nationwide are underfunded by more than a half-trillion dollars.

The SEC's powers to hold states accountable for financial misconduct are extremely limited because state governments have many constitutional protections against oversight by federal officials.

The SEC has essentially no authority to force New Jersey to accurately report its pension liabilities directly. But the agency can enforce the disclosure requirements contained in federal securities laws on issuers of bonds. In raising money in the bond market, New Jersey became such an issuer.

The New Jersey case follows the SEC's filing of charges last year against several individuals in an alleged multimillion-dollar kickback scheme involving New York state's largest pension fund.

The agency accuses a former deputy comptroller, a political adviser and several investment professionals and firms of extracting millions of dollars in kickbacks from investment management firms seeking to manage the assets of the state's primary pension fund.

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